What’s the Average 401(k) Rate of Return?

Most advisors and financial planners still advise their clients to participate in a 401(k) plan when available. Typically, advisors project an average rate of return for those funds invested in a 401(k) plan over the next 20 to 30 years to be somewhere between 5 to 8%. Unfortunately, for numerous reasons, this doesn’t mean a 401(k) will actually realize a 5-8% return. To understand why, let’s explore what a 401(k) is, how to calculate your average 401(k) return, as well as some other options.

KEY POINTS

• Variable Rate of Return: Financial advisors often project an average rate of return for 401(k) plans between 5 to 8% over 20 to 30 years. However, this does not guarantee such returns due to market volatility and other factors.
• 401(k) Basics: The IRS defines a 401(k) as a qualified profit-sharing plan allowing employees to contribute a portion of their wages to individual accounts. Contributions are made with pre-tax dollars, reducing taxable income, and the growth in the account is tax-deferred.
• Fees and Investment Choices: 401(k) plans typically charge around 1% fee on managed assets, and offer a limited range of investment options, mainly stocks, bonds, and cash or stable value options.
• Different Strategies for 401(k) Investing: Common investment strategies include the 60/40 asset allocation (60% equities, 40% bonds), investing in target-date funds, utilizing financial advisors for personalized guidance, and diversifying with multiple retirement accounts.
• Alternative to 401(k) – Whole Life Insurance: Participating in whole life insurance is suggested as an alternative, offering guaranteed premiums and cash values, tax-preferred dividends, and a tax-free death benefit. It is positioned as a lower-risk option compared to the typical high-risk investments in 401(k) plans.

What Is a 401(k)?

The IRS defines a 401(k) as “a feature of a qualified profit-sharing plan that allows employees to contribute a portion of their wages to individual accounts.”

In other words, employees have the option of directing a portion of their pay to a company-sponsored investment account. Because participants contribute pre-tax dollars from their wages to their 401(k) accounts, their annual taxable income is reduced.

Contributions and growth in a 401(k) account are tax-deferred until the funds are withdrawn.

Understanding 401(k) Plans: Fees, Vesting, Penalties, and Investment Options

When considering a 401(k) plan, it’s crucial to understand certain aspects that might impact your investment. Here are key points to consider:

1. Fees: 401(k) plans typically charge around 1% fee on managed assets. For example, with $100,000 in your account, you could pay $1,000 annually. These fees can significantly accumulate over time, reducing overall returns. It’s vital to check with your plan provider or employer’s HR department for specific fee details, as some investment accounts may not have management fees.
2. Vesting: Your personal contributions to the 401(k) are fully yours. However, employer contributions might follow a vesting schedule, determining when you gain full ownership of these funds.
3. Early Withdrawal Penalties: Withdrawing funds from your 401(k) before age 59 ½ usually incurs a 10% penalty, in addition to standard taxes. This is because the government encourages the growth of these savings. At age 73, you’re mandated to start taking minimum distributions from these accounts.
4. Investment Options: 401(k) plans offer at least three basic investment choices: stocks, bonds, and cash or stable value options. While many plans offer a broader range of mostly mutual funds, those seeking to invest beyond these basic asset classes might find the options limiting.

It’s important to be well-informed about these aspects to make the most beneficial decisions regarding your 401(k) investments.

What Are the Specific Fees in Your 401(k) Plan?

401(k) plans contain multiple layers of costs that eat away at returns. Understanding each fee type helps account holders recognize the true cost of their plan:

1. Administrative fees: These cover record keeping, legal representation, and employee services such as educational seminars. These fees are paid via debit from the 401(k) plan.
2. Investment advisory fees: Also called account maintenance fees, these are ongoing plan costs associated with overseeing investment options.
3. 12b-1 fees: When present, these fees are usually factored into the fund expense ratio for each fund on the 401(k) investment menu. 12b-1 fees generally pay for marketing of the fund.
4. Sales loads: Also called transaction fees, these are expenses incurred when you buy or sells shares in your fund. Front-end loads are fees paid when buying shares of a fund, coming out of the initial investment. Back-end loads are charged when selling shares after a certain amount of time. Some mutual funds have a mix of both, while others have none.
5. Expense ratios: This represents the portion of a fund’s assets used to pay for overall management and ongoing operation of the fund. The expense ratio comes out of a fund’s total assets, meaning you and everyone invested in the same fund pay indirectly via reduced investment returns. Your fund prospectus should detail the expense ratio.

Learn How to Calculate Your 401(K) Rate of Return

An average 401(k) rate of return is the sum of all returns earned, divided by the number of all the periods. Thus, the average 401(k) rate of return is the same as the annual rate of return only in year one (see chart). After year one, the 401(k) average rate of return can be quite different than might be expected.

In a 401(k) with contributions of $5,000 per year, and the sequence of returns you see on the left, the ending 401(k) balance would be $39,002.35 rather than $36,756.04 which would be an annual 5.833% return on the same $5,000 annual contribution over 6 years.

Furthermore, if the annual 401(k) rates of return had occurred in reverse order, the average rate of return would remain 5.833%, but the average rate of return at the end of each year along the way would be quite different. This would alter yearly growth as well as the ending balance of the 401(k) which you see is now $6,556.85 less than before.

If total contributions remain the same, but differing annual contribution amounts are contributed each year, the future 401(k) balances will be different as well, even though the same average rate of return is earned.

How to Calculate Your Personal 401(k) Annual Return

To calculate your actual 401(k) return for a one-year period, follow these steps:

1. Take the ending balance and subtract contributions made over the past year.
2. Divide by the starting balance from one year ago.
3. Subtract 1 and multiply the result by 100 to get the percentage return.

For periods longer than one year, the calculation becomes more complex and it’s usually easier to use a financial calculator to calculate the return on the beginning value, versus the ending value minus contributions during that time.

The longer the period measured and the more contributions made, the less accurate this simple calculation becomes. A more appropriate calculation is the time-weighted return, which measures actual investment portfolio performance regardless of deposits or withdrawals. Most 401(k) providers calculate this automatically and display it when account holders log in to view their accounts.

Assessing the Performance of 401(k) Returns

Determining the average rate of return for a 401(k) is not straightforward due to various influencing factors. Here’s a breakdown of key aspects to consider:

1. Factors Influencing Returns: The performance of a 401(k) depends on the available investment options within your plan and the composition of your individual portfolio. Market fluctuations also play a significant role, affecting returns from year to year.
2. Expected Return Range: Despite uncertainties, a common expectation is an annual return ranging between 5% and 8%. However, this range is not a guarantee; returns can sometimes surge into double digits or even dip into negative territory.
3. The Limitation of Averages as Indicators: Using average returns as a benchmark can be misleading. For example, averages might not accurately represent the distribution of returns in a data set. An analogy can be drawn to a scenario where a billionaire’s presence in a diner skews the average wealth of the patrons, which doesn’t accurately reflect each individual’s financial status.
4. Understanding Averages and Medians: It’s beneficial to educate yourself about the concepts of averages and medians. Assessing whether targeting an average return is practical or realistic requires understanding these statistical measures and their implications in your specific context.

While there are general expectations regarding 401(k) returns, individual experiences may vary significantly due to several factors, including market conditions and investment choices.

Why Average 401(k) Returns Don’t Tell the Complete Story

While most investors look to average 401(k) returns of 5% to 8% annually to gauge how retirement savings might grow, these figures only paint part of the picture. Actual performance depends heavily on asset allocation, fees, market conditions, and contribution consistency. Two investors with the same plan can see vastly different outcomes if one maintains a diversified portfolio and the other takes on excessive risk or leaves their account underfunded.

Long-term averages smooth out the volatility of individual years. Periods of market downturn can temporarily dampen returns, while bull markets can boost them significantly. What matters most is how the account performs over decades, not in any single year, and whether the investment strategy aligns with risk tolerance and your long-term goals.

Because averages cannot account for personal circumstances, reviewing portfolios regularly and adjusting contributions or investment mix as life changes is necessary.

What Is a Good 401(K) Rate of Return?

For these reasons, Ted Benna, the father of the 401(k) plan, states “I learned a long time ago…that average returns are pretty meaningless, that a higher average doesn’t mean you will have more money.”

For this reason, most 401(k) accounts never earn what they were projected to earn. According to Vanguard, those aged 65 and older have an average of only $255,151.00 in their 401(k). The median 401(k) account balance is a mere $82,297.00 for this same age group.

According to Financial Advisor Magazine (fa-mag.com), a 401(k) tax deferral in 1980 was equivalent to an additional investment return of 9.2%, which was an extraordinary incentive to contribute to a 401(k), even without the employers match. But today the tax deferral benefits for contributing to a 401(k) plan is a mere 0.6%, which is less than the 1% and 2% of costs and fees which investors pay in a typical 401(k) plan.

Costs and fees are another reason why the 401(k) plan has been seriously questioned by authorities as to still be the best place to build and sustain retirement income. Here are several costs and fees which must be accounted for when looking to calculate your 401(k) return:

1. Administration fees which are paid via debit from the 401(k) account
2. Investment fees which are directly deducted from investment returns of a 401(k)
3. Service fees are typically charged to the employee’s 401(k) account
4.  Settlor fees which normally are paid by the employer

A total of 1.5% of costs and fees in a 401(k) plan, which started with $25,000 and earned a 7% annual rate of return with annual contributions of $10,000 each year, destroys 40.70% of the potential growth after 40 years. Increasing those costs and fees to 2.5% will destroy over half of the potential growth (59.36%), making costs and fees destructive to both building and sustaining wealth in a 401(k) plan.

Today, “1 out of 4 seniors would be living in poverty without their Social Security income. Social Security provides more than 50% of the income which American seniors receive. Yet the average Social Security monthly income is only $1,413”, meaning $16,956 of income annually is all that is keeping most seniors from living below the poverty level.

Caveats To Growing Your 401(K)

It is recognized by the U.S. Bureau of Labor Statistics that most Americans need at least $46,000 per year in order to survive retirement without running out of money. And yet, over 40% of Americans admit they are doing nothing to prevent running out of money before they die. Others are saving money in the wrong places and assuming way more risk than they need to because they are being told that the 401(k) is still the best place to save for their retirement. Benna fully understands this enigma stating there are those “who are following the typical investment strategy that is promoted out there, taking much higher levels of risk than they should be, much higher, and the potential to get hammered without being able to recover is pretty scary.”

Then there are those who have aggressively funded their 401(k) and may still not have enough money to last through retirement. It is a known fact that Only 1.6% of 401(k) and IRA owners have become 401(k)/IRA millionaires. And even though these millionaires have done everything they have been told to do, their high 401(k) balances will become a tax liability for them due to the required minimum distribution (RMD) regulations. RMDs on large 401(k) balances trigger Social Security and income taxes which may be partially avoided with some simple financial pre-planning. And 401(k) money which is inherited, creates an entirely new set of tax liabilities for the beneficiaries since the Tax Cuts and Jobs Act of 2017 was enacted.

Finally, there is a liquidity issue with money invested in 401(k) plans. Generally speaking, if the owner is under 55 the only way to access money from a 401(k) is via a loan, a hardship withdrawal, or a rollover to an IRA. Once retired, and retirement can’t have occurred prior to age 55, then distributions can be taken from a 401(k) without the 10% IRS tax penalty. From 59½ to 72, money can be withdrawn from a 401(k) but only from a 401(k) plan NOT sponsored by a current employer. After age 72 RMDs are required and must be taken no later than April 1st of the year after one turns 72 unless the 401(k) plan offers an exception to this mandatory rule.

Such limitations and restrictions have been the demise of many good-sized 401(k) accounts when the market dives into the previous territory. This happened in 2000 through 2002 when annualized returns dropped -9.03%, -11.85%, and -21.97% respectively, and in 2008 when the market corrected a whopping -36.55% severely depleting many 401(k) plans. Market corrections leave fewer options for the 401(k) plan owner depending on the plan to fund retirement.

Exploring Various 401(k) Investment Strategies

When it comes to managing a 401(k), there are several strategies available, each with its own approach and without guaranteed returns. Here’s an overview of some common methods:

1. 60/40 Asset Allocation: This strategy involves allocating 60% of the portfolio to equities (stocks) and 40% to bonds. The goal is to balance risk and return, offering consistent gains even during market volatility.
2. Target-Date Funds: These are mutual funds designed around your expected retirement year. A fund targeting 2050 may have a more aggressive mix, leaning more towards stocks for higher returns. Conversely, a 2025 fund focuses on safety, predominantly investing in bonds to protect those nearing retirement. However, market conditions can still affect returns.
3. Utilizing Financial Advisors: Many 401(k) plans offer the option of consulting with a financial advisor. If your plan doesn’t, or if you seek more comprehensive guidance, you can consider hiring a financial professional to align your investment with both short-term and long-term goals.
4. Diversifying with Multiple Retirement Accounts: You can combine the basic options of your workplace 401(k) with other retirement accounts for a more diverse approach. Options include a traditional IRA for continued tax advantages, a Roth IRA to reduce future tax liabilities, or an individual investment account for more personalized stock investments.

Each of these strategies has its unique considerations and potential benefits, and the choice depends on individual financial goals, risk tolerance, and retirement timeline. It’s important to understand the specifics of each approach, including the differences between a 401(k) and an IRA, before making a decision.

Optimizing Asset Allocation for Better 401(k) Returns

No matter what investment strategy is selected, asset allocation should align with risk tolerance and time horizon. Time horizon represents how much time exists between now and the expected retirement date.

Financial planners generally believe those with long-term horizons have time to weather market volatility. They can concentrate more on growth-focused investments like equities, despite higher volatility. Those closer to retirement may want to protect existing savings and take on less risk. Therefore, they tend to put more money in securities like debt and fixed-income.

This principle drives the structure of target-date funds (TDFs). These funds automatically shift their asset allocation to seek less risk as investors move closer to their expected retirement date. However, results with TDFs can still vary greatly and are not the best options for everyone.

Some plans offer eight to 12 investment options according to industry data, with mutual funds being the most common. Many are index funds, which means returns will mirror an underlying benchmark index, although earnings will lag slightly due to fees.

Many people prefer to also have a separate asset class altogether by building savings outside their 401(k) using life insurance cash values, which can make it easier to focus on investing strategy in the 401(k) where they know they are taking risk instead of trying to hedge risky investments with less risky investments. After all, it can be quite difficult to define risk, but whole life insurance cash values are based on some guarantees.

Strategies to Improve Your 401(k) Rate of Return

While no 401(k) investment strategy guarantees specific returns, certain approaches can help optimize 401(k) performance over time:

1. Consistent Contributions: Regular contributions to a 401(k) can significantly impact future savings. Making contributions with each pay period builds good habits and keeps retirement goals on track. Many financial planners suggest making contributions up to the company match if available, as this is money that directly boosts account balance. Aiming for at least 6% of salary helps establish good saving habits.
2. Dollar-Cost Averaging: This approach involves putting money into a 401(k) regularly, such as monthly through payroll deductions. This means buying more shares when prices are low and fewer when they are high. Over time, this can theoretically lower the average cost per share, but it is still only a theory that this works better in the long run, and results depend on timing and market performance.
3. Adjusting Risk Over Time: As careers progress, your investment approach typically changes. As retirement nears most people switch to safer investments trying to reduce the chance of losing money right before retirement, but this can limit returns. A balanced approach helps protect savings while still allowing for potential gains.

How Much Should You Contribute to Your 401(k)?

It depends on your goals – and not just your goals relating to retirement, but also your goals relating to your life before retirement. The IRS does set 401(k) plan contribution limits each year. In 2026, you can contribute up to $24,500, or $32,500 if you’re at least 50 years old. That’s up from $23,500 and $31,000 in 2025, respectively.

Starting in 2025, savers between 60 and 63 years old can contribute even more to their 401(k) under a provision of the SECURE 2.0 Act. People in their early 60s can save an extra $11,250 in their 401(k) in 2025 and 2026, bringing the total allowable contribution to $34,750 ($23,500 + $11,250).

It often makes sense to contribute at least as much as required to get the full employer match so you’re not leaving money on the table, but unless you want to maximize your retirement plan balance to the exclusion of everything else, there may be other saving strategies that provide better balance, with access to your money throughout your life in combination with a 401(k) contribution strategy.

Common Questions About 401(k) Returns

Is a 7% Return on a 401(k) Good?

A 7% return on a 401(k) is generally considered good. It beats many savings accounts and even some bonds. Over time, a steady rate like this can help grow an investment significantly. For example, if you invest $10,000 at a 7% return for 30 years, you could see it grow to about $76,122 before taxes, and assuming no fees.
But returns can (and do) vary year by year. Market ups and downs play a significant role in what is earned. The average 401(k) return over the long run tends to hover around 7%/year but there could be many years when the equivalent annual return from the very beginning is lower than 7%. Understanding how these factors affect personal returns is important when planning for retirement.

What Is the Average 30-Year 401(k) Return?

The average 30-year 401(k) return is about 7% to 8% annually. This can vary based on factors like investment choices and market conditions. For example, if $100 is invested monthly for 30 years with a consistent return of 7%, the total could reach around $120,000 before taxes and assuming no fees.
It’s also important to realize that inflation will affect your future account value. It will reduce the buying power. Understanding this helps with better planning for your future. A 2.5% annual inflation rate over 30 years will make your 7% return before taxes feel more like like a 4.46% return on the investment before taxes.

How Much Can a 401(k) Grow by Retirement?

This depends on how much you contribute, how early you contribute and the market returns throughout your investment period.
Investing $10k/year in a 401k earning a steady 7% return over 30 years with a 1% annual fee could grow to about $827,216 before taxes.
If market returns are similar to the S&P 500 nominal returns from 1995-2024, then you could have about $1,097,255.If the market crashed in the 30th year then your returns might end up looking similar to the S&P 500 nominal returns from 1979-2008 and you might only have about $708,284.
With consistent contributions and good choices across your entire portfolio (not just your 401k), staying on track for a strong financial future becomes more likely.

The Importance of Long-Term Planning

Long-term planning is essential for a successful 401(k). It helps reach retirement goals. The earlier the start, the better. Compound interest works in your favor when time is on your side.

Many variables affect 401(k) rate of return. Market conditions can change, and fees might rise over time, impacting growth. Staying consistent with contributions helps build a stronger investment portfolio by retirement age. Asset allocation should match individual risk tolerance over the years ahead.

Why Choose Life Insurance?

Contrast this with participating whole life insurance which guarantees a specific premium on your plan which will produce a specific and guaranteed cash value each and every year, and this specific value will be contractually guaranteed at the time of signing the life insurance contract. In addition, participating whole life insurance contracts guarantee surplus profits will be shared with policyholders in the form of tax-preferred dividends.

These dividends, over time, can match or exceed historical returns which the 401(k) investor must wrestle with each and every year. In addition to this, the death benefit of a life insurance policy passes tax-free to the beneficiary(s) of the policy avoiding taxes associated with inherited 401(k)s. An owner of a participating whole life policy can also create a guaranteed lifetime income by rolling the cash values of the policy into a fixed guaranteed annuity avoids the risks of the market associated with 401(k) plans during retirement.

Participating in whole life insurance completely dodges the typical investment strategy of using high-risk investments which Ted Benna, the father of the 401(k) plan, has so prudently warned investors to avoid. And in retirement, participating in whole life insurance can be used to help minimize taxes which is a consequence some 401(k) account owners will have to face.

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Tomas P. McFie DC PhD

Tom McFie is the founder of McFie Insurance and co-host of the WealthTalks podcast which helps people keep more of the money they make, so they can have financial peace of mind. He has reviewed 1000s of whole life insurance policies and has practiced the Infinite Banking Concept for nearly 20 years, making him one of the foremost experts on achieving financial peace of mind. His latest book, A Biblical Guide to Personal Finance, can be purchased here.